After retirement, you must continue covering living expenses even though your salary has decreased or stopped. If all your retirement savings are held in the same account or invested in volatile assets, you may have to sell investments at a loss to pay for living expenses during a market downturn.
The retirement bucket strategy divides savings according to when the money will be needed: near-term living expenses, medium-term stability funds, and long-term growth funds.
A bucket does not necessarily mean opening three separate accounts. Even within a single account, assets can be organized according to their purpose and expected time of use.
This strategy cannot completely eliminate sequence of returns risk, but it may help reduce the need to sell long-term investments in a hurry when the market declines early in retirement.
What Is the Retirement Bucket Strategy?
The retirement bucket strategy goes beyond simply dividing assets among stocks, bonds, and cash. It organizes money according to when it is expected to be used.
The money is generally divided into funds for near-term use, medium-term use, and long-term investment. Some approaches use periods such as 1 to 3 years, 4 to 7 years, and 8 years or longer, but these are not fixed rules that apply equally to everyone.
The time period and amount assigned to each bucket should reflect your retirement horizon, pension income, living expenses, health, assets, and risk tolerance.
The purpose of the bucket strategy is not to achieve the highest possible return. Its main goal is to separate money needed in the near future from money intended for long-term growth, helping reduce impulsive selling and excessive withdrawals caused by changing market conditions.
Three Buckets for Dividing Retirement Savings
1. Near-Term Living Expense Bucket
The first bucket contains living expenses and planned costs that must be paid in the near future.
This may include essential expenses that are difficult to postpone, such as housing, food, insurance, and medical costs, as well as major expenses expected in the near future.
Accessibility and price stability are more important than investment returns for this bucket. Cash, cash equivalents, and short-term products may be considered, but principal protection, early withdrawal conditions, and fees must be checked because they differ by product.
Because inflation can reduce the purchasing power of cash and cash equivalents, you should be cautious about holding more than necessary for an extended period.
2. Medium-Term Stability Bucket
The second bucket is intended to replenish the living expense bucket as it declines or to cover medium-term expenses.
It is generally structured to seek greater return potential than the first bucket while maintaining lower volatility than long-term growth assets.
Bonds and other relatively less volatile assets may be considered, but bonds and bond-based products can also decline in value because of interest-rate changes and market conditions. The term “stability bucket” does not mean that losses cannot occur.
The time horizon and asset mix of the medium-term bucket should depend on how long the living expense bucket will last and how much pension or other regular income you receive.
3. Long-Term Growth Bucket
The third bucket contains money that will not be needed in the near future and can remain invested for the long term.
If retirement lasts for 20 years or longer, inflation may reduce the purchasing power of your living expenses, making long-term asset growth necessary.
This bucket may include investments with growth potential, such as stocks or stock-based assets, but they can experience significant short-term losses. Living expenses needed in the near future should therefore not be included in the growth bucket.
A long-term bucket should not be left unattended. It should be reviewed regularly to determine whether its asset allocation has moved significantly away from the original target.
Five Steps for Calculating the Amount in Each Bucket
Step 1. Calculate Your Annual Living Expenses
First, calculate the total amount of living expenses you will need for one year of retirement.
Separate essential monthly expenses from discretionary spending that can be adjusted, such as travel, hobbies, and expensive purchases. Do not overlook irregular costs such as taxes, insurance premiums, vehicle expenses, and medical bills.
Step 2. Subtract Your Regular Income
Subtract regular income, such as pensions, rental income, and earned income, from your annual living expenses.
The required withdrawal amount can be calculated as follows:
Required annual withdrawal = Total annual living expenses − Regular annual income
When setting a withdrawal rate, you may refer to guidelines such as the 4% retirement withdrawal rule, but a single percentage should not be applied to everyone in the same way.
Step 3. Calculate the Amount Needed in the Near Future
After calculating your required annual withdrawal, decide how many years of expenses the first bucket should cover.
For example, if your total annual living expenses are KRW 30 million and your regular income, including pension income, is KRW 18 million, your investment portfolio must provide KRW 12 million per year.
If the first bucket is designed to cover the next two years, its base amount would be KRW 24 million. Taxes, medical expenses, emergency costs, and planned major expenses should be calculated separately.
This calculation is only an example and does not mean that two years of living expenses is suitable for every retiree.
Step 4. Set the Time Horizons for the Medium-Term and Long-Term Buckets
After setting aside the first bucket, divide the remaining assets into medium-term and long-term buckets based on when the money will be needed and how much risk you can tolerate.
Allocating too much money that may be needed soon to volatile assets increases the risk of having to realize losses during a market downturn.
Conversely, keeping even long-term money entirely in cash equivalents may cause its purchasing power to decline because it fails to keep pace with inflation.
Step 5. Establish Replenishment and Review Rules in Advance
Dividing your assets into buckets does not complete the plan. You must also decide when and how the first bucket will be replenished as it declines.
Selling growth assets on fixed dates regardless of market conditions may lock in losses during a downturn. On the other hand, ignoring your spending plan while simply waiting for the market to recover can also be risky.
Review your asset allocation, living expenses, regular income, and market conditions together, and decide whether to replenish the living expense bucket during scheduled reviews or portfolio rebalancing.
How Should the Bucket Strategy Be Managed?
Living expenses are generally withdrawn from the first bucket. As that bucket declines, it may be replenished with interest, dividends, maturing assets, or funds generated through portfolio rebalancing.
If a strong market rise causes growth assets to exceed their target allocation, a portion may be rebalanced to replenish the living expense bucket.
During a major market decline, rather than automatically selling growth assets to restore the first bucket to its original amount, review other income sources and consider adjusting discretionary spending.
Do not decide whether to replenish a bucket by looking only at the return displayed in your account. Understand the difference between nominal and real returnsshould be clearly understood, and your actual financial position should be reviewed after accounting for inflation, taxes, and fees.
Five Common Mistakes When Using the Bucket Strategy
1. Separating Accounts Without Establishing Rules
Even if you divide your money among three accounts, it will be difficult to make decisions during an actual market downturn unless you establish when each bucket will be used and replenished.
2. Making the Living Expense Bucket Too Large
Holding too much retirement money in cash equivalents because of anxiety may reduce long-term returns and allow inflation to erode purchasing power.
how inflation affects retirement savingsHow inflation affects retirement savingsshould also be included in the calculation to determine whether today’s living-expense amount will remain sufficient in the future.
3. Assuming That the Stability Bucket Cannot Lose Money
Bonds and bond-based products can also experience losses because of interest-rate changes, credit risk, and market conditions. Review the actual risks and maturity structure rather than relying on the product’s name.
4. Applying the Same Time Period to Everyone
A single standard, such as holding one or three years of living expenses, should not be applied without adjustment. The appropriate amount depends on pension income, retirement duration, spending flexibility, health, and existing assets.
5. Excluding Taxes and Fees
Selling investments may create taxes and transaction costs, and the amount actually available for withdrawal may differ depending on the type of account.
Your plan should be based on the amount that will actually be available after taxes and costs, rather than the portfolio’s stated balance.
Advantages and Limitations of the Bucket Strategy
One advantage of the bucket strategy is that near-term living expenses are set aside separately. This may reduce the likelihood of having to sell long-term investments in a hurry to meet immediate expenses during a market decline.
It also clarifies the purpose and expected time of use for each portion of the portfolio, making the retirement plan easier to understand and maintain.
However, the bucket strategy cannot prevent investment losses or guarantee that your savings will last. Funds may become insufficient if withdrawals are too high, long-term returns are low, or retirement lasts longer than expected.
You must also consider the opportunity cost of holding cash, inflation risk, and the taxes and fees that may arise when transferring or selling assets.
The bucket strategy is not a special financial product. It is a method for determining the order in which retirement funds will be used and the purpose for which each portion will be managed.
What to Check Before Creating Retirement Buckets
How much do you need each month for essential living expenses?
How much discretionary spending can you adjust?
How much regular income do you receive from pensions, rental income, and other sources?
Do you have any major expenses or medical costs expected in the near future?
How many years should the first bucket cover?
When do you expect to use the medium-term and long-term funds?
What rules will you use to replenish each bucket?
Can you reduce discretionary spending during a market downturn?
Are inflation, taxes, and fees included in your calculations?
When will you review and adjust your asset allocation?
Simply dividing your money into three parts without answering these questions is not enough to determine whether your retirement savings will last.
ConclusionConclusion
The retirement bucket strategy organizes living expenses and investment assets according to when the money is expected to be used.
Setting aside near-term living expenses may help reduce the need to sell long-term growth assets in a hurry during a market downturn.
However, the same bucket periods and amounts should not be applied to everyone. Annual living expenses, regular income, retirement duration, asset allocation, inflation, taxes, and fees must all be considered together.
What matters is not the number of buckets, but clearly establishing the purpose, expected time of use, replenishment rules, and review process for each portion from the beginning.
This article is intended to provide general financial information and does not recommend any particular investment product or asset allocation strategy. Retirement investment and withdrawal decisions may vary depending on an individual’s financial circumstances, investment horizon, tax situation, and risk tolerance.
References
Charles Schwab, Phasing Retirement with a Bucket Drawdown Strategy
FINRA, Managing Your Retirement Portfolio
Investor.gov, Asset Allocation and Diversification